Law firms in a recession

Compared to the domestic economies of our EU neighbours, the UK economy has been disproportionately reliant upon housing and construction and this, coupled with the wider issues affecting the world economy, has resulted in a powerful cocktail affecting a wide variety of businesses. Since law firms depend upon consumers and businesses for their income, and a good deal of legal work is discretionary spending, it would be surprising if law firms were not feeling the pinch.

So how does it look from this end?

Here are a few of my observations on the challenges and opportunities facing solicitors and some thoughts on how this recession differs from the last one as far as the legal profession is concerned.

Getting the basics right

Adopting best practice in areas such as billing policy, disbursements disciplines and credit control is important in any economic environment, but when conditions are tough it becomes absolutely vital. The benign conditions of the past 15 years have allowed firms to ignore problem areas of their business, and many have made good profits despite having a flawed business model. It’s rather like those amateur property developers on TV who got everything wrong but still returned a positive outcome because of a rising market.

Firms that can organise their businesses to be profitable and resilient in these challenging conditions will be set to fly when the market improves. Sector specialist bankers and accountants can advise and benchmark how effectively the working capital cycle is being managed and help firms reduce the investment they are making in their clients. Here are a couple of practical ideas:

Regular peer oversight, where a fee earner from another department challenges the WIP, disbursements and debtor figures of a colleague and is subject to similar scrutiny in return.

Billing days throughout the year where the whole firm, or a department at a time, sets aside time to raise bills.

Even now we see firms raising 25% of annual billing in month twelve! The same principle can be applied to debt collection, particularly those stubborn cases where a whole bill remains outstanding because of a dispute on a small part of it. Tempting though it may be to argue the fine detail, the bigger picture is to get paid so eaching a compromise is almost always the right answer.

Looking at pricing

It has been estimated that up to 40% of firms might not have made profits in recent years but for interest received on client money. With the base rate at its lowest level ever and client balances falling considerably due to the moribund domestic conveyancing market, this source of income has all but dried up.

Suddenly the pressure is on law firms to embrace a business model that does not rely on client money interest. How many ever review the costs associated with various types of legal work, in order to arrive at the right pricing structure? That’s what manufacturers have to do, and maybe lawyers should too. Accountants have the skills to provide valuable input to this process.

Of course, when the economy recovers the problem will go away, won’t it? Maybe not. The SRA is apparently giving consideration to regulatory changes that would remove solicitors’ ability to make a turn on client money, and who’s to say they won’t follow through on this?

Management teams brave enough to develop a business model whereby client money interest is an unbudgeted bonus will reap the rewards whatever happens.

Growing the income levels

Even in challenging economic conditions there are still opportunities to do more business. Some firms plan to recruit new clients, but few use their existing satisfied clients effectively to generate new business. Fewer still are organised about finding ways to do more business with existing clients. Cross-selling has a far higher ‘hit rate’ than trying to win clients away from other firms.

When law firms undertake client satisfaction surveys the results generally suggest that clients would be happy to recommend them, but often reveal that these satisfied clients were unaware of the other services on offer. Bankers have been adept at cross-selling for years and can offer practical advice on this to solicitor customers.

Financing the business

Our experience at Lloyds TSB Commercial is that lending to solicitors has grown by 11% (August 2009 v August 2008). We have seen considerably more requests for help with those perennial commitments like the January tax bill and the practising certificates in October. Many firms are insufficiently capitalised and the partnership business model does nothing to encourage the retention of capital in law firms. Partners who have been able to take significant drawings over the past several years are now considering putting some cash back in. Where they have the assets but lack the liquidity to achieve this, banks will consider partner equity loans. Lloyds TSB recently launched such an offering to Law Society members through its ‘preferred supplier’ agreement with the Law Society of England & Wales.

Working with the bank

Today’s economic climate will be written about and studied for years to come. In the interests of balance, I should say that some law firms are doing remarkably well at the moment - it all depends on the business mix and there’s no doubt that strong management and having some countercyclical work in the portfolio help. For most firms, however, it has never been more important to maintain an open and honest dialogue with their bankers. We can help customers get through this recession and emerge from it stronger than before. At Lloyds TSB Commercial we have a team of sector specialist managers who are keen to work with you to the benefit of our customers and your clients.